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5 Reasons to Buy Costco Now

By Daniel B. Kline – Apr 3, 2017 at 8:17AM

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The company may not be flashy, but it's very steady.

Costco (COST -1.65%) appears to follow the philosophy that "slow and steady wins the race."

The company does not make quick changes. Instead, it follows its tried-and-true formula of keeping members engaged and renewing their memberships by offering low prices in no-frills, but still fun, warehouses.

It's a model that has proven surprisingly resilient in a market where other large retailers have lost significant share to online players and emerging brands. Costco gives its members value and a destination shopping experience, and they've responded by continuing to come out to the chain's warehouse clubs.

That may not be a sexy formula, or one likely to show huge gains quarter to quarter, but it has been a model of stability. Costco isn't the next big thing, and it likely never will be, but it's a model of consistency in a volatile market. That makes the company's stock an attractive port in the storm at a time when many retail brands face uncertain futures. Here are five reasons you should consider buying Costco stock.

A Costco warehouse

Costco has never been the most exciting company, but it's a steady winner. Image source: Costco.

Earnings are consistent

For the first half of fiscal 2017, net income came in at $1.06 billion, or $2.41 per diluted share, compared to $1.02 billion, or $2.32 per diluted share the previous year. That's not all that different from the $1.04 billion, or $2.47 per diluted share in fiscal 2015.

Because about 75% of earnings come from membership fees, Costco's profits are more predictable than those of most retailers. The chain, thanks to its rolling renewal of memberships, has a revenue stream that's not dependent on people actually shopping in its stores.

Expansion has been steady

Costco does not rush when it comes to opening stores or moving into new markets. The chain plans to open 29 location in 2017, with 14 in the U.S. and eight in Canada. The chain will also open one new location in Japan, Korea, Taiwan, Mexico, and Australia each, along with its first warehouse clubs in France and Ireland.

That's the same number of new stores that the chain opened in fiscal 2016, though with a slightly different geographic breakdown. Last year, Costco added 21 U.S. locations, two in Canada along with one store in Japan, the United Kingdom, Taiwan, Australia, and Spain.

Those numbers are in line with the company's slow and steady approach. Costco has a formula that works, but it also takes the time to give attention to each launch. In addition, the chain takes its time in new markets around the world, entering slowly and working out the kinks before fully committing.

Executive membership is growing

Executive Members pay twice as much to join -- $110 instead of $55 -- but in exchange for the extra money, they get 2% cash back on most purchases from the chain, up to $750. Those members spend more money than normal $55 Gold Star members, according to CFO Richard Galanti's comments in the Q2 2017 earnings call, which was transcribed by Seeking Alpha (registration required).

"As of Q2 end, our paid Executive Memberships stood at 17.9 million, which is an increase of about 200,000 from 12-weeks earlier, or about 17,000 additional per week," the CFO said. "Executive Members represented a little over one-third of our member base, and about two-thirds of our sales."

The credit card switch went well

In June, Costco switched its credit card provider from longtime partner American Express to a new card from Visa (V 0.25%). The change was not without problems; it was abrupt, with the old cards working until stores closed on June 19, then the new ones being accepted on June 20. In addition, not only did the company drop its former partner, it made Visa the exclusive credit card in its stores.

The problems, while significant, were short-lived. By Q2, the chain had not only gotten back to where it was before the switch, but moved ahead of it, according to Galanti:

Recall that we began last June 20, with approximately 11.4 million co-branded cards, or about 7.4 million accounts being transferred to Citi for a conversion to the new Citi Visa Anywhere card. As of Q2 end, just under 90% of these accounts transferred have been activated, recognizing all accounts transferred to begin with, were not activated. And I think, it was down in the low 80s at the time-low to mid 80s.

That means before any new signups, the company has exceeded the amount of active customers it had using its old card with the new one. On top of that, about 1.2 million new accounts have been approved.

The chain finally has an online business

Until the last few quarters, Costco had taken a very laid-back attitude toward its internet business. The membership club built its business on its warehouses, and the digital channel was, to put it kindly, not a focus. That has changed recently, with the company focusing on improving its online user experience, and the early results have been good.

In Q2, according to Galanti, total online sales were up 11% over the same quarter a year ago. He attributed that to the company's efforts to improve its digital experience.

In terms of improving experience and functionality of the site, we've improved search, we've shortened the check-out process, and we've improved our member's ability to track their orders, and we'll continue to do some more of that. Just recently, we automated much of our returns process, not only providing members a much better quality of service, but also reducing by more than 20%, in just the first couple of months, our call center volume related to returns.

In some ways, those are baby steps compared to what other chains have done, but Costco has succeeded with a limited online presence. If it can grow its digital business, it should be able to enhance its members' connection to the brand.

Daniel Kline has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Costco Wholesale and Visa. The Motley Fool recommends American Express. The Motley Fool has a disclosure policy.

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